Tech's space appetite eclipses highs of dot-com boom

Concern about bust rises along with rents

Colin Yasukochi, director of research at CBRE, stands at a corner in SoMa, the heart of the city's tech boom.

Colin Yasukochi, director of research at CBRE, stands at a corner in SoMa, the heart of the city's tech boom.

Photo: Michael Macor, The Chronicle

Photo: Michael Macor, The Chronicle

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Colin Yasukochi, director of research at CBRE, stands at a corner in SoMa, the heart of the city's tech boom.

Colin Yasukochi, director of research at CBRE, stands at a corner in SoMa, the heart of the city's tech boom.

Photo: Michael Macor, The Chronicle

Tech's space appetite eclipses highs of dot-com boom

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Technology companies have leased 40 percent more San Francisco office space since the start of 2010 than during the five-year dot-com boom.

That's just one eye-catching statistic in a comprehensive new report analyzing the tech industry's impact on the city's office market, which brokerage firm CBRE will release on Wednesday.

Here are a few more: Tech tenants now fill 22 percent of all occupied office space in San Francisco. The sector represented 61 percent of all office leasing last year, a historical high. Since 2009, tech has created 23,500 jobs - 86 percent of all new office positions in the city.

There are different - and not mutually exclusive - ways to view these numbers. They clearly underscore the incredible contributions that the tech sector is making to the local economy. But they're also a revealing glimpse into San Francisco's reliance on the health of a single sector historically prone to intense booms and busts.

With tech filling so much of the city's office space, San Francisco's leaders and landlords should take to heart that most basic piece of investment advice: Diversify your portfolio.

"When you look at the job-growth figures, it's so dominantly tech that should it falter, it would have a big impact on the market," said Colin Yasukochi, director of research and analysis at CBRE and the principal author of the study.

Whether we're in a bubble has become a boring semantic debate. But we do know that this boom will end, because all booms end.

The real questions are when will it happen - and how painful will it be when it does?

Looking to the past

History provides at least a benchmark for the latter question.

During the first dot-com boom, office vacancy in the city shrunk to a minuscule 2 percent in 2000, according to the CBRE report. By 2003, after the bust, that figure swelled to 19 percent. San Francisco lost more than 70,000 jobs in the aftermath, according to California's Employment Development Department.

There are arguments for why things could be more - or less - severe during the next tech downturn.

Part of the reason tech leases have grown by 40 percent is that far more companies are now concentrated within San Francisco's borders, rather than more evenly spread throughout Silicon Valley. That means the city's risk exposure could be proportionally larger.

All told, tech companies have leased more than 15.5 million square feet in the city since 2010, including large deals by Airbnb, Square, Twitter, Yelp, Zendesk and Zynga.

Most of the tech leasing has occurred South of Market, making that area particularly susceptible to any slowdown (while driving up rents there by 87 percent since 2009). In the core SoMa submarket, tech firms account for 58 percent of all occupied space - compared with less than 9 percent north of Market Street.

It's not just that tech is outpacing other industries in growth. On the whole, non-tech companies are actually contracting in the city.

While tech absorbed more than 1 million square feet of space so far this year, other sectors overall gave up 280,000 square feet, CBRE found. Health and education inched forward, but the presence of business services, legal, financial and social services all declined in the past three quarters. These trends - which might be attributable to rent increases as well as systemic shifts in the economy - are further undermining the diversity of San Francisco's economy.

Here's another troubling sign in the CBRE report: One big factor that magnified the impact of the dot-com bust was that companies were leasing far more space than they needed, in anticipation of growth that never materialized. Firms were far more disciplined for the next decade, but the numbers show wide-eyed enthusiasm taking hold again.

An index that measures San Francisco's ratio of leasing to employment growth has reached a level not seen since the late 1990s.

To be sure, there are important mitigating factors, too.

Apps, social media and cloud services have become a crucial part of nearly every industry, transforming business in a way that fly-by-night dot-coms never really did. That promises to provide some greater measure of recession resilience.

Changing face of tech

In addition, the definition of tech has expanded to include education, entertainment, media, retail and basically any other business that develops an app or website. That greater diversity means "tech" companies won't necessarily rise or fall as a cohesive class.

Further, the CBRE report notes that venture capital levels, while high, haven't grown exponentially the way they did during the first Internet boom. And this time around, we've already seen a greater willingness on the part of investors to cut companies off from additional cash once it's clear they can't build an audience or revenue - see the recent examples of Everpix and Turntable.fm.

Yasukochi also points out that most of the space occupied by tech companies - more than 60 percent - is filled by companies that are more than 8 years old, generally tried-and-true businesses like Adobe and Autodesk that are better equipped to weather a market dip.

Economist Ken Rosen, who famously predicted the San Francisco office market crash of the early 2000s, said that far more of the companies filling up the city's buildings today have real business models and actual revenue than the earlier wave of dot-coms.

But he's quick to add that profits often are still elusive and valuations for late-stage tech startups are becoming difficult to justify by traditional standards.

No profits yet

Snapchat lacks not just profit, but also revenue, yet it rejected a $3 billion offer from Facebook. Spotify and Dropbox are operating in tight-margin businesses with considerable competition and no evidence of profits, yet they or their investors place their worth at $4 billion and $8 billion, respectively.

Rosen said it's fine to be profitless right up until the boom ends. But once the market turns, as many as 80 percent of today's tech startups could vanish, eliminating thousand of jobs and emptying millions of square feet in the process. (If that sounds extreme, note that at least 80 percent of all new businesses fail.)

"There is no question we are the epicenter of this business and when, not if, the downturn happens, we'll have a sharper down cycle," Rosen said. "I'd say we're in the third, maybe fourth inning. We've probably got two or three more years of this."